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Dr. Don Brash

Budget 2016

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Oliver Hartwich, executive director of the New Zealand Initiative, has described Bill English’s latest Budget as “boring”, but rightly points out that “boring” is in many ways a compliment.  We shouldn’t expect Budgets to be chock full of surprises in a well-functioning democracy.

And in some ways it was indeed a good Budget.  Government spending is under reasonably tight control, with the ratio of government spending to GDP continuing to edge gradually lower from the levels it reached in the immediate aftermath of the Christchurch earthquakes and the global financial crisis.  The economy is growing at something close to 3% annually, and growth close to that level is projected to continue over the next few years.  While government debt is still rising relative to GDP, that ratio is projected to peak shortly, and to start trending down towards 20% (on a net basis) by the end of this decade, assuming of course that the Government can resist the temptation of a fiscal splurge for the election next year.

Many other countries would be delighted to be in our fiscal position.

But there are some important caveats to that rosy assessment.  There has been no attempt to offset the effects of “fiscal drag”, as gradually rising nominal incomes take more and more taxpayers into higher tax brackets: that fiscal drag has been an important source of increasing tax revenue in recent years.

The excise tax on cigarettes is projected to continue rising sharply, with the Treasury calculating that the tax on cigarettes already raises very substantially more revenue than the effects of smoking add to the impact on the health budget.  Given that the Government has refused to legalise e-cigarettes – regarded by the British Government as a highly effective way of weaning cigarette smokers off the real thing – one has to wonder whether the Government is not now more focused on exploiting an easy source of revenue than in discouraging smoking.

Much more seriously, though not surprisingly given that this Budget was the Government’s eighth and big changes in policy don’t happen in a third term government, there was not the slightest attempt to deal with either the long-term fiscal implications of our ageing population or our very slow growth in per capita incomes.

Our ageing population clearly means that, under current policy settings, future governments are going to face a very substantial increase in the fiscal cost of healthcare, New Zealand Superannuation, and aged care.  Yes, in the next few years the ratio of government debt to GDP is projected to decline, but Treasury estimates suggest that there will be a very large increase in that ratio (to above 100% of GDP) unless there are some substantial policy changes, either on the spending side or on the tax side.  There were no signs of any policy change in these areas in the 2016 Budget.

At least as serious, there were no signs of any attempt to increase our growth in per capita incomes.  Yes, aggregate growth looks reasonable, but that is very largely the result of very strong growth in population, in turn the result of a high rate of net immigration, not an increase in productivity.  And it is increased productivity which ultimately drives increases in incomes.

Brian Fallow pointed out in the New Zealand Herald on the day after the Budget was delivered that “last year economic output grew 2.3 per cent but that was almost entirely explained by a 2.1 per cent rise in hours worked.”  He noted that in the 1990s “labour productivity grew at a brisk average pace of 2.6 per cent a year.  Between 2000 and 2007 it fell to 1.3 per cent and since 2008 it has averaged 0.8 per cent.”  He went on to point out that this “feeble growth in productivity is off a low base by international standards.  In Australia, for example, they produce one-third more per person than we do, despite our working 8 per cent longer hours on average.”

And of course that very slow growth in output per hour worked is the fundamental reason why, despite reasonable aggregate economic growth, our real incomes are growing very slowly, and the gap between incomes in New Zealand and those in Australia – which the Government claimed they wanted to close by 2025 – has barely changed over the last eight years.

What would the Government have done had they taken those two challenges seriously?

First, they would have announced that, with effect from some future date, the age of eligibility for New Zealand Super would start gradually rising to 67, with the age of eligibility indexed to increases in life expectancy thereafter.

Secondly, they would have accepted Winston Peters’ offer to support a proper reform of the RMA – not the current rather pathetic attempt at that reform.  This would greatly reduce the disincentives for investment in productive activities and make a major contribution to reducing the social and economic costs of the current housing affordability crisis.

Third, they would have drastically reduced the New Zealand corporate tax rate.  At 28%, that rate is now significantly higher than in many of the countries with which we compete for capital, and will soon be higher than the corporate tax rate in Australia.  Several international studies confirm that a dramatic cut to the corporate tax rate would materially increase wages, as increased investment leads firms to increase their need for employees.  And a significant cut would be fiscally neutral if matched by a reduction in the corporate welfare now dispensed to ministerially-chosen favourites.

Fourth, they would have used the current low interest rate environment to undertake a significant increase in investment in transport infrastructure – by which I mean “roads”, not tipping more and more money into rail infrastructure (which has already swallowed vast amounts of taxpayer money for limited benefit).  The Budget did provide for $2.1 billion more for “infrastructure” but $883 million of that was for school buildings, $857 million for the IRD’s new computer system, and $190 million for KiwiRail – none of which will do anything to resolve serious traffic congestion in New Zealand’s largest city.

And finally, they would have announced a cut-back to the level of non-citizen immigration.  I am persuaded by the argument advanced by former Reserve Bank economist Michael Reddell that the very high level of immigration has been one of the factors holding back the growth in per capita incomes in New Zealand.  That high level of immigration has meant that a substantial proportion of our limited savings pool has had to go into what economists call “capital widening” – more houses, more schools, more hospitals, more roads – and not into “capital deepening”, or increasing the amount of capital available to increase output per worker.

Politically impossible?  Well, not easy, I concede.  But I suspect that, presented as a package of measures intended to deal with New Zealand’s real economic challenges, not impossible.  I could imagine, for example, that Winston Peters might accept a gradual increase in the age of eligibility for New Zealand Super in return for a cut-back in the level of immigration, and the elimination of racial preferences in the RMA.

Having said that, I am fully aware of the political pressures the Government operates under.  Reading the various wish lists published by the media before the Budget announcement was depressing – almost all of them demanded the Government spend more money, on healthcare, education, or whatever.  Not too many were demanding that the Government should do less.

I’m reminded of the comment of 19th century French historian Alexis de Tocqueville: “The American Republic will endure until the day Congress discovers it can bribe the public with the public’s money”.  I fear the New Zealand Parliament has made the same discovery.